Manor Care, Inc. 10-Q/A
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q/A
Amendment No. 1 to Form 10-Q
(Mark One)
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| þ |
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Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 |
For the quarterly period ended June 30, 2005
OR
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| o |
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Transition Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 |
Commission file number: 1-10858
Manor Care, Inc.
(Exact name of registrant as specified in its charter)
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| Delaware
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34-1687107 |
| (State or other jurisdiction of
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(IRS Employer |
| incorporation or organization)
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Identification No.) |
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| 333 N. Summit Street, Toledo, Ohio
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|
43604-2617 |
| (Address of principal executive offices)
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|
(Zip Code) |
Registrant’s telephone number, including area code: (419) 252-5500
Indicate by check mark whether the registrant (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports) and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of
the Exchange Act). Yes þ No o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act). Yes o No þ
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of
the close of business on August 31, 2005.
Common stock, $0.01 par value – 78,754,187 shares
Manor Care, Inc.
Form 10-Q/A
Explanatory Note
This Amendment No. 1 on Form 10-Q/A is being filed to amend and restate the Company’s Form 10-Q for
the quarterly period ended June 30, 2005, which was originally filed on August 9, 2005.
During the first quarter of 2005, and in anticipation of adopting the Financial Accounting
Standards Board (FASB) Statement No. 123 (revised 2004), “Share-Based Payment” (FAS 123R), the
Company reviewed its accounting practices for all stock-based compensation, including restricted
stock. Historically, the Company amortized its restricted stock compensation to the expected
retirement date. As a result of the first quarter review, the Company determined that its
restricted stock compensation should have been amortized to the retirement eligible date. The
Company recorded a non-cash pretax charge of $10.3 million ($6.6 million after tax, or $.08 per
share) to reflect the accelerated expense for the years 2000 through 2004. The effect on the
Company’s prior years’ earnings per share was not deemed material at that time. In addition,
restricted stock awards were made to retirement eligible employees in March 2005 that resulted in a
pretax charge of $8.2 million ($5.2 million after tax or $.06 per share).
Subsequent to the release of the Company’s first quarter earnings, the Company’s independent
registered public accounting firm advised the Company that due to the widespread practice of
recognizing compensation expense over the explicit service period (up to the date of actual
retirement), the SEC staff would accept continuation of that practice under Accounting Principles
Board Opinion No. 25 (APB 25) and FASB Statement No. 123
(FAS 123). In addition, for companies that
had followed that practice, the Company was advised that the SEC staff would require a continuation of that practice for awards
granted prior to the adoption of FAS 123R. For companies that had already made the accounting
change in the first quarter, such as Manor Care, the Company was
further advised that there would be no objection from the SEC staff
because of the immateriality of the change.
In the third quarter of 2005, the Company determined that deferred tax assets, related to
restricted stock, previously recorded in the amount of $8.6 million, ($6.9 million of which was
recorded in the first quarter of 2005), would not be realized due to the limitations on the tax
deductibility of executive compensation and should not have been previously recorded. The Company
further determined that the previously discussed first quarter restricted stock adjustments,
including any reversal of deferred tax assets, while not material for all years prior to 2005,
would be material for 2005 net income.
Consistent with the SEC staff views described above and in consultation with the Company’s
independent registered public accounting firm, the Company reverted to its original accounting
practice of recognizing compensation cost over the explicit service period and the restatement is
included in the first quarter Form 10-Q/A and this Form 10-Q/A. The impact of the restatement for
the second quarter is not material. The impact of the restatement for the six months ended June
30, 2005 reduced general and administrative expenses and increased income before income taxes by
$17.9 million, increased income taxes by $8.6 million, increased net income by $9.3 million and
increased diluted earnings per share by $.10.
This Form 10-Q/A contains the complete text of Items 1, 2 and 4 of Part I and Item 6 of Part II, as
amended, as well as currently dated certifications. Unaffected items have not been repeated in
this Amendment No. 1. This Amendment No. 1 does not reflect events occurring after the filing date
of the original Form 10-Q on August 9, 2005 or modify or update the disclosures presented in the
original Form 10-Q, except to reflect the restatement as described above. Accordingly, Amendment
No. 1 should be read in conjunction with our filings made subsequent to the filing of the original
Form 10-Q on August 9, 2005, including any amendments to those filings. Additional disclosure
regarding the restatement is included in Note 9 to the restated unaudited consolidated financial
statements included in Item 1 of Part I of this Amendment No. 1 on Form 10-Q/A.
2
Manor Care, Inc.
Form 10-Q/A
Table of Contents
3
Part I. Financial Information
Item 1. Financial Statements.
Manor Care, Inc.
Consolidated Balance Sheets
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June 30, |
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2005 |
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December 31, |
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Restated |
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2004 |
|
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|
(Unaudited) |
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|
(Note 1) |
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(In thousands, except per share data) |
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Assets |
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Current assets: |
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|
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Cash and cash equivalents |
|
$ |
86,663 |
|
|
$ |
32,915 |
|
Receivables, less allowances for doubtful
accounts of $54,329 and $54,532, respectively |
|
|
465,696 |
|
|
|
425,278 |
|
Prepaid expenses and other assets |
|
|
28,337 |
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|
24,762 |
|
Deferred income taxes |
|
|
59,440 |
|
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|
57,412 |
|
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|
|
|
|
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Total current assets |
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640,136 |
|
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|
540,367 |
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|
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Property and equipment, net of accumulated
depreciation of $823,933 and $768,915, respectively |
|
|
1,493,024 |
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|
1,495,152 |
|
Goodwill |
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|
93,010 |
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|
92,672 |
|
Intangible assets, net of amortization of $4,807 and $4,499, respectively |
|
|
10,768 |
|
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|
9,099 |
|
Other assets |
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|
191,609 |
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|
203,408 |
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Total assets |
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$ |
2,428,547 |
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|
$ |
2,340,698 |
|
|
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|
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|
Liabilities And Shareholders’ Equity |
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Current liabilities: |
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Accounts payable |
|
$ |
99,739 |
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|
$ |
102,178 |
|
Employee compensation and benefits |
|
|
140,626 |
|
|
|
139,900 |
|
Accrued insurance liabilities |
|
|
98,523 |
|
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|
102,973 |
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Income tax payable |
|
|
31,826 |
|
|
|
4,710 |
|
Other accrued liabilities |
|
|
66,226 |
|
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|
49,992 |
|
Long-term debt due within one year |
|
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2,483 |
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|
2,501 |
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Total current liabilities |
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439,423 |
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402,254 |
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Long-term debt |
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554,287 |
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555,275 |
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Deferred income taxes |
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|
131,588 |
|
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134,518 |
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Other liabilities |
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268,699 |
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264,492 |
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Shareholders’ equity: |
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Preferred stock, $.01 par value, 5 million shares authorized |
Common stock, $.01 par value, 300 million shares authorized,
111.0 million shares issued |
|
|
1,110 |
|
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|
1,110 |
|
Capital in excess of par value |
|
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374,136 |
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|
366,649 |
|
Retained earnings |
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1,261,051 |
|
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|
1,208,493 |
|
Accumulated other comprehensive loss |
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|
(1,208 |
) |
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(1,227 |
) |
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|
|
|
|
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|
1,635,089 |
|
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|
1,575,025 |
|
Less treasury stock, at cost (24.6 and 25.0 million shares, respectively) |
|
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(600,539 |
) |
|
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(590,866 |
) |
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Total shareholders’ equity |
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|
1,034,550 |
|
|
|
984,159 |
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|
|
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Total liabilities and shareholders’ equity |
|
$ |
2,428,547 |
|
|
$ |
2,340,698 |
|
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|
See notes to consolidated financial statements.
4
Manor Care, Inc.
Consolidated Statements of Income
(Unaudited)
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Three Months Ended June 30, |
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Six Months Ended June 30, |
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2005 |
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|
2005 |
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Restated |
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2004 |
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Restated |
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2004 |
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(In thousands, except per share amounts) |
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Revenues |
|
$ |
833,759 |
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|
$ |
799,135 |
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$ |
1,712,961 |
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$ |
1,596,473 |
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Expenses: |
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Operating |
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694,221 |
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|
659,757 |
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|
1,428,371 |
|
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|
1,319,115 |
|
General and administrative |
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|
40,680 |
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|
33,106 |
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|
76,946 |
|
|
|
67,897 |
|
Depreciation and amortization |
|
|
35,629 |
|
|
|
32,276 |
|
|
|
69,076 |
|
|
|
64,023 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
770,530 |
|
|
|
725,139 |
|
|
|
1,574,393 |
|
|
|
1,451,035 |
|
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|
|
|
|
|
|
|
|
|
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|
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|
Income before other income (expenses)
and income taxes |
|
|
63,229 |
|
|
|
73,996 |
|
|
|
138,568 |
|
|
|
145,438 |
|
Other income (expenses): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
(10,216 |
) |
|
|
(11,248 |
) |
|
|
(20,332 |
) |
|
|
(21,967 |
) |
Gain (loss) on sale of assets |
|
|
663 |
|
|
|
(730 |
) |
|
|
209 |
|
|
|
1,675 |
|
Equity in earnings of affiliated companies |
|
|
1,455 |
|
|
|
1,844 |
|
|
|
2,823 |
|
|
|
3,897 |
|
Interest income and other |
|
|
714 |
|
|
|
354 |
|
|
|
1,073 |
|
|
|
917 |
|
|
|
|
|
|
|
|
|
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|
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|
Total other expenses, net |
|
|
(7,384 |
) |
|
|
(9,780 |
) |
|
|
(16,227 |
) |
|
|
(15,478 |
) |
|
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|
|
|
|
|
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|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes |
|
|
55,845 |
|
|
|
64,216 |
|
|
|
122,341 |
|
|
|
129,960 |
|
Income taxes |
|
|
17,766 |
|
|
|
24,081 |
|
|
|
43,899 |
|
|
|
48,735 |
|
|
|
|
|
|
|
|
|
|
|
|
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|
Net income |
|
$ |
38,079 |
|
|
$ |
40,135 |
|
|
$ |
78,442 |
|
|
$ |
81,225 |
|
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|
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Earnings per share: |
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Basic |
|
$ |
.44 |
|
|
$ |
.46 |
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|
$ |
.91 |
|
|
$ |
.93 |
|
Diluted |
|
$ |
.43 |
|
|
$ |
.45 |
|
|
$ |
.89 |
|
|
$ |
.90 |
|
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Weighted-average shares: |
|
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|
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|
|
|
|
|
|
|
|
|
|
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Basic |
|
|
86,391 |
|
|
|
87,409 |
|
|
|
86,280 |
|
|
|
87,802 |
|
Diluted |
|
|
88,125 |
|
|
|
89,339 |
|
|
|
87,923 |
|
|
|
89,936 |
|
|
|
|
|
|
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|
|
|
|
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|
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Cash dividends declared per common share |
|
$ |
.15 |
|
|
$ |
.14 |
|
|
$ |
.30 |
|
|
$ |
.28 |
|
See notes to consolidated financial statements.
5
Manor Care, Inc.
Consolidated Statements of Cash Flows
(Unaudited)
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Six Months Ended June 30, |
|
| |
|
2005 |
|
|
|
|
| |
|
Restated |
|
|
2004 |
|
| |
|
(In thousands) |
|
Operating Activities |
|
|
|
|
|
|
|
|
Net income |
|
$ |
78,442 |
|
|
$ |
81,225 |
|
Adjustments to reconcile net income to net cash
provided by operating activities: |
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
|
69,076 |
|
|
|
64,023 |
|
Restricted stock compensation |
|
|
2,308 |
|
|
|
862 |
|
Provision for bad debts |
|
|
14,974 |
|
|
|
10,946 |
|
Deferred income taxes |
|
|
(4,958 |
) |
|
|
(3,427 |
) |
Net gain on sale of assets |
|
|
(209 |
) |
|
|
(1,675 |
) |
Equity in earnings of affiliated companies |
|
|
(2,823 |
) |
|
|
(3,897 |
) |
Changes in assets and liabilities, excluding sold facilities and acquisitions: |
|
|
|
|
|
|
|
|
Receivables |
|
|
(59,917 |
) |
|
|
(18,975 |
) |
Prepaid expenses and other assets |
|
|
6,716 |
|
|
|
4,528 |
|
Liabilities |
|
|
46,546 |
|
|
|
59,806 |
|
|
|
|
|
|
|
|
Total adjustments |
|
|
71,713 |
|
|
|
112,191 |
|
|
|
|
|
|
|
|
Net cash provided by operating activities |
|
|
150,155 |
|
|
|
193,416 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing Activities |
|
|
|
|
|
|
|
|
Investment in property and equipment |
|
|
(64,776 |
) |
|
|
(89,340 |
) |
Investment in systems development |
|
|
(883 |
) |
|
|
(1,087 |
) |
Proceeds from sale of assets |
|
|
1,403 |
|
|
|
20,076 |
|
Proceeds from sale of minority interests in consolidated entity |
|
|
|
|
|
|
2,778 |
|
|
|
|
|
|
|
|
Net cash used in investing activities |
|
|
(64,256 |
) |
|
|
(67,573 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financing Activities |
|
|
|
|
|
|
|
|
Principal payments of long-term debt |
|
|
(924 |
) |
|
|
(5,943 |
) |
Payment of financing costs |
|
|
(500 |
) |
|
|
(11 |
) |
Purchase of common stock for treasury |
|
|
(13,394 |
) |
|
|
(71,719 |
) |
Dividends paid |
|
|
(25,884 |
) |
|
|
(24,953 |
) |
Proceeds from exercise of stock options |
|
|
8,551 |
|
|
|
13,502 |
|
|
|
|
|
|
|
|
Net cash used in financing activities |
|
|
(32,151 |
) |
|
|
(89,124 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase in cash and cash equivalents |
|
|
53,748 |
|
|
|
36,719 |
|
Cash and cash equivalents at beginning of period |
|
|
32,915 |
|
|
|
86,251 |
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
86,663 |
|
|
$ |
122,970 |
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
6
Manor Care, Inc.
Notes To Consolidated Financial Statements
(Unaudited and Restated)
Note 1 – Accounting Policies
Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared in accordance with
accounting principles generally accepted in the United States for interim financial information and
with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not
include all of the information and footnotes required by generally accepted accounting principles
for complete financial statements. In the opinion of management of Manor Care, Inc. (the Company),
all adjustments necessary for a fair presentation are included. Operating results for the six
months ended June 30, 2005 are not necessarily indicative of the results that may be expected for
the year ending December 31, 2005.
The balance sheet at December 31, 2004 has been derived from the audited financial statements at
that date but does not include all of the information and footnotes required by U.S. generally
accepted accounting principles for complete financial statements. For further information, refer
to the consolidated financial statements and footnotes thereto included in Manor Care, Inc.’s
annual report on Form 10-K for the year ended December 31, 2004.
At June 30, 2005, the Company operated 278 skilled nursing facilities, 65 assisted living
facilities, 94 hospice and home health offices and 90 outpatient therapy clinics.
Lease Accounting
During the second quarter of 2005, the Company completed an assessment of its accounting for over
150 leases and related amortization for leasehold improvements. Based on this assessment, the
Company concluded that its previous accounting practices related to escalating rent over the term
of the lease, free rental periods at the beginning of the lease and the leasehold amortization
period were not correct. Historically, the Company expensed the lease payment as it was paid and
should have amortized the total lease payments on a straight-line basis over the lease term. The
Company recorded a non-cash charge of $4.5 million ($2.8 million after tax or $.03 per share) that
reflected the correction through June 30, 2005. Of this amount, $3.0 million related to lease
expense, consisting of $2.4 million of operating expenses and $0.6 million of general and
administrative expenses. The remaining $1.5 million related to additional amortization of
leasehold improvements. The effect on the Company’s prior years’ earnings per share was not
material. Rental expense, excluding the $3.0 million adjustment, was $5.1 million for the second
quarter of 2005.
7
Comprehensive Income
Comprehensive income represents the sum of net income plus other comprehensive income (loss).
Comprehensive income totaled $38.1 million and $78.5 million for the three and six months ended
June 30, 2005, respectively, and $40.1 million and $80.7 million for the three and six months ended
June 30, 2004, respectively. The other comprehensive loss in 2004 primarily represents the
reversal of the unrealized gain on investments sold.
Insurance Liabilities
At June 30, 2005 and December 31, 2004, the workers’ compensation liability consisted of short-term
reserves of $21.9 million and $23.7 million, respectively, which were included in accrued insurance
liabilities, and long-term reserves of $45.5 million and $41.5 million, respectively, which were
included in other long-term liabilities. The expense for workers’ compensation was $6.8 million
and $16.8 million for the three and six months ended June 30, 2005, respectively, and $8.9 million
and $18.2 million for the three and six months ended June 30, 2004, respectively. Although
management believes that the Company’s liability reserves are adequate, there can be no assurance
that these reserves will not require material adjustment in future periods. See Note 4 for
discussion of the Company’s general and professional liability.
Restricted Stock Accounting
The compensation expense related to time-vested restricted stock awards is amortized up to the
employees’ expected retirement date. If an employee retires before the expected retirement date,
it would require an acceleration of any remaining unrecognized compensation expense. The Company
will be required to change this policy for all awards granted or modified after adoption of the
Financial Accounting Standards Board (FASB) Statement No. 123 (revised 2004), “Share-Based
Payment,” on January 1, 2006, as discussed below. Any new or modified awards after December 31,
2005 will be required to be amortized up to the employees’ retirement eligible date. The Company
recorded compensation expense for time-vested restricted stock awards of $0.9 million and $1.5
million for the three and six months ended June 30, 2005, respectively, and $0.5 million and $0.9
million for the three and six months ended June 30, 2004, respectively. If the Company had
recorded the expense up to the employees’ retirement eligible date, the Company would have expensed
$0.5 million and $8.5 million for the three and six months ended June 30, 2005, respectively, and
$1.7 million and $4.3 million for the three and six months ended June 30, 2004, respectively.
Stock-Based Compensation
Stock options are granted for a fixed number of shares to employees with an exercise price equal to
the fair market value of the shares at the date of grant. The Company accounts for the stock
option grants in accordance with APB Opinion No. 25, “Accounting for Stock Issued to Employees,”
and related Interpretations. Accordingly, the Company recognizes no compensation expense for the
stock options. During the first half of 2005, employees delivered shares to the
8
Company to cover the payment of the option price and related tax withholdings on the option
exercises. These shares had a value of $14.9 million.
The following table illustrates the effect on net income and earnings per share as if the Company
had applied the fair value recognition provisions of FASB Statement No. 123, “Accounting for
Stock-Based Compensation,” to stock-based employee compensation for options granted since 1995.
Effective March 15, 2005, stock options were awarded to executive officers that vest immediately.
In addition, the vesting of the stock options awarded in February 2003 and 2004 with an original
three year vesting were accelerated to vest immediately. The Company accelerated the vesting of
the prior year awards in order to avoid compensation expense when the new accounting standard for
share-based compensation is required to be adopted, as discussed in more detail under New
Accounting Standard. Management believes that the executive officers will continue to be employed
until the original vesting period; therefore, the Company has not recorded any expense under APB
25. The accelerated vesting of prior year awards resulted in additional pro forma expense, net of
related tax effects, of $3.0 million in the first quarter of 2005, as included in the table below.
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Three Months Ended |
|
|
Six Months Ended |
|
| |
|
June 30 |
|
|
June 30 |
|
| |
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
| |
|
(In thousands, except earnings per share) |
|
Net income — as reported |
|
$ |
38,079 |
|
|
$ |
40,135 |
|
|
$ |
78,442 |
|
|
$ |
81,225 |
|
Deduct: Total stock-based employee
compensation expense determined
under fair value based method for all
awards, net of related tax effects |
|
|
(2,375 |
) |
|
|
(899 |
) |
|
|
(10,376 |
) |
|
|
(2,522 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income — pro forma |
|
$ |
35,704 |
|
|
$ |
39,236 |
|
|
$ |
68,066 |
|
|
$ |
78,703 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share — as reported: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
.44 |
|
|
$ |
.46 |
|
|
$ |
.91 |
|
|
$ |
.93 |
|
Diluted |
|
$ |
.43 |
|
|
$ |
.45 |
|
|
$ |
.89 |
|
|
$ |
.90 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share — pro forma: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
.41 |
|
|
$ |
.45 |
|
|
$ |
.79 |
|
|
$ |
.90 |
|
Diluted |
|
$ |
.40 |
|
|
$ |
.44 |
|
|
$ |
.77 |
|
|
$ |
.87 |
|
9
New Accounting Standard
In December 2004, the FASB issued Statement No. 123 (revised 2004), “Share-Based Payment,” which is
a revision of Statement No. 123. Statement 123R replaces APB Opinion No. 25 and amends Statement
No. 95, “Statement of Cash Flows.” Statement 123R requires all share-based payments to employees,
including grants of employee stock options, to be recognized in the financial statements based on
their fair value. The pro forma footnote disclosure is no longer an alternative to financial
statement recognition. In April 2005, the Securities and Exchange Commission postponed the
effective date. Statement 123R is effective for the Company beginning January 1, 2006, but early
adoption is permitted in periods in which financial statements have not been issued. There are two
transition alternatives, modified-prospective and modified-retrospective. Under the
modified-prospective method, the Company will be required to recognize compensation cost in the
financial statements on the date of adoption. Under the modified-retrospective method, the Company
will be required to restate prior periods by recognizing in the financial statements the same
amount of compensation cost as previously reported in the pro forma footnote disclosures under
Statement 123. The Company will be permitted to apply the modified-retrospective method either to
all periods presented or to the start of the fiscal year in which Statement 123R is adopted.
In addition, Statement 123R requires awards classified as liabilities (such as cash-settled stock
appreciation rights) to be measured at fair value at each reporting date versus measured at
intrinsic value under Statement 123. The time value of the liability will be recognized as
compensation cost but then be reversed as the settlement date approaches. At expiration, total
compensation cost will not differ from that which would result under the intrinsic-value method.
Management expects to adopt this Statement on January 1, 2006 under the
modified-prospective-transition method. As of June 30, 2005, substantially all of the Company’s
options are vested, and the pre-tax expense expected to be recorded in 2006 related to stock
options outstanding at June 30, 2005 is $0.2 million. Management has not determined the impact of
adoption of cash-settled stock appreciation rights.
Note 2 — Debt
On May 27, 2005, the Company terminated its existing three-year $200 million revolving credit
facility that was scheduled to mature April 21, 2006. The Company wrote off $0.6 million in
deferred finance fees. Simultaneously, the Company entered into a new five-year $300 million
unsecured revolving credit facility with a group of lenders, with an uncommitted option available
to increase the facility by up to an additional $100 million (accordion feature). As of June 30,
2005, there were no loans outstanding under this agreement and after consideration of usage for
letters of credit, there was $251.4 million available for future borrowing plus the accordion
feature. The credit commitment expires on May 27, 2010.
Loans under the five-year credit facility are guaranteed by substantially all of the Company’s
subsidiaries. This credit facility contains various covenants, restrictions and events of default.
10
Among other things, these provisions require the Company to maintain certain financial ratios and
impose certain limits on its ability to incur indebtedness, create liens, pay dividends, repurchase
stock and dispose of assets.
The Company can borrow under the credit facility, at its option, on either a competitive advance
basis or a revolving credit basis. Competitive borrowings will bear interest at market rates
prevailing at the time of the borrowing on either a fixed rate or a floating rate basis, at the
Company’s option. Revolving borrowings will bear interest at variable rates that reflect, at the
Company’s option, the agent bank’s base lending rate or an increment over Eurodollar indices,
depending on the quarterly performance of a key ratio (debt divided by earnings before interest,
taxes, depreciation and amortization (EBITDA), as defined in the credit agreement). The credit
facility also provides for a fee on the total amount of the facility, depending on the same key
ratio. In addition to direct borrowings, the credit facility may be used to support the issuance
of up to $125 million of letters of credit.
At June 30, 2005, the Company had $100 million principal amount outstanding of the 7 1/2% Senior
Notes due June 15, 2006 issued by its wholly owned subsidiary, Manor Care of America, Inc (MCA).
The Company classified these notes as long-term because it has the ability and intent to finance
the redemption of the notes with a portion of the proceeds from the issuance on August 1, 2005 of
$400 million convertible senior notes due 2035. See Note 8 for further discussion.
Note 3 — Revenues
Revenues for certain health care services are as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Three Months Ended |
|
|
Six Months Ended |
|
| |
|
June 30 |
|
|
June 30 |
|
| |
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
| |
|
|
|
|
|
(In thousands) |
|
|
|
|
|
Skilled nursing and assisted living services |
|
$ |
704,021 |
|
|
$ |
674,836 |
|
|
$ |
1,453,489 |
|
|
$ |
1,351,398 |
|
Hospice and home health services |
|
|
97,482 |
|
|
|
96,257 |
|
|
|
192,813 |
|
|
|
188,350 |
|
Rehabilitation services
(excludes intercompany revenues) |
|
|
24,576 |
|
|
|
20,510 |
|
|
|
49,372 |
|
|
|
42,334 |
|
Other services |
|
|
7,680 |
|
|
|
7,532 |
|
|
|
17,287 |
|
|
|
14,391 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
833,759 |
|
|
$ |
799,135 |
|
|
$ |
1,712,961 |
|
|
$ |
1,596,473 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 4 — Contingencies
One or more subsidiaries or affiliates of MCA have been identified as potentially responsible
parties (PRPs) in a variety of actions (the Actions) relating to waste disposal sites which
allegedly are subject to remedial action under the Comprehensive Environmental Response
Compensation Liability Act, as amended, 42 U.S.C. Sections 9601 et seq. (CERCLA) and similar state
laws. CERCLA imposes retroactive, strict joint and several liability on PRPs for the costs
11
of
hazardous waste clean-up. The Actions arise out of the alleged activities of Cenco, Incorporated
and its
subsidiary and affiliated companies (Cenco). Cenco was acquired in 1981 by a wholly owned
subsidiary of MCA. The Actions allege that Cenco transported and/or generated hazardous substances
that came to be located at the sites in question. Environmental proceedings such as the Actions
may involve owners and/or operators of the hazardous waste site, multiple waste generators and
multiple waste transportation disposal companies. Such proceedings involve efforts by governmental
entities and/or private parties to allocate or recover site investigation and clean-up costs, which
costs may be substantial. The potential liability exposure for currently pending environmental
claims and litigation, without regard to insurance coverage, cannot be quantified with precision
because of the inherent uncertainties of litigation in the Actions and the fact that the ultimate
cost of the remedial actions for some of the waste disposal sites where MCA is alleged to be a
potentially responsible party has not yet been quantified. At June 30, 2005, the Company had $4.5
million accrued in other long-term liabilities based on its current assessment of the likely
outcome of the Actions which was reviewed with its outside advisors. At June 30, 2005, there were
no receivables related to insurance recoveries.
The Company is party to various other legal matters arising in the ordinary course of business
including patient care-related claims and litigation. At June 30, 2005 and December 31, 2004, the
general and professional liability consisted of short-term reserves of $61.5 million and $65.9
million, respectively, which were included in accrued insurance liabilities, and long-term reserves
of $114.5 million and $122.5 million, which were included in other long-term liabilities,
respectively. The expense for general and professional liability claims, premiums and
administrative fees was $18.2 million and $36.4 million for the three and six months ended June 30,
2005, respectively, and $20.2 million and $40.7 million for the three and six months ended June 30,
2004, respectively, which was included in operating expenses. Although management believes that
the Company’s liability reserves are adequate, there can be no assurance that such provision and
liability will not require material adjustment in future periods.
12
Note 5 — Earnings Per Share
The calculation of earnings per share (EPS) is as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Three Months Ended |
|
|
Six Months Ended |
|
| |
|
June 30 |
|
|
June 30 |
|
| |
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
| |
|
(In thousands, except earnings per share) |
|
Numerator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator for basic EPS — net income |
|
$ |
38,079 |
|
|
$ |
40,135 |
|
|
$ |
78,442 |
|
|
$ |
81,225 |
|
After-tax amount of interest expense on
Convertible Senior Notes (Old Notes) |
|
|
29 |
|
|
|
27 |
|
|
|
55 |
|
|
|
54 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator for diluted EPS |
|
$ |
38,108 |
|
|
$ |
40,162 |
|
|
$ |
78,497 |
|
|
$ |
81,279 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator for basic EPS — weighted-
average shares |
|
|
86,391 |
|
|
|
87,409 |
|
|
|
86,280 |
|
|
|
87,802 |
|
Effect of dilutive securities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock options |
|
|
1,080 |
|
|
|
1,102 |
|
|
|
1,063 |
|
|
|
1,220 |
|
Non-vested restricted stock |
|
|
|
|
|
|
461 |
|
|
|
|
|
|
|
460 |
|
Convertible Senior Notes |
|
|
654 |
|
|
|
367 |
|
|
|
580 |
|
|
|
454 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator for diluted EPS —
adjusted for weighted-average
shares and assumed conversions |
|
|
88,125 |
|
|
|
89,339 |
|
|
|
87,923 |
|
|
|
89,936 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
EPS: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
.44 |
|
|
$ |
.46 |
|
|
$ |
.91 |
|
|
$ |
.93 |
|
Diluted |
|
$ |
.43 |
|
|
$ |
.45 |
|
|
$ |
.89 |
|
|
$ |
.90 |
|
Options to purchase shares of the Company’s common stock that were not included in the
computation of diluted EPS because the options’ exercise prices were greater than the average
market price of the common shares were: 0.6 million shares with an average exercise price of $38
for the first half of 2005 and 0.7 million shares with an average exercise price of $37 for the
first half of 2004.
13
Note 6 — Employee Benefit Plans
The Company has two qualified and two non-qualified defined benefit pension plans included in the
table below. Two of the plans’ future benefits are frozen. The components of net pension cost are
as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Three Months Ended |
|
|
Six Months Ended |
|
| |
|
June 30 |
|
|
June 30 |
|
| |
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
| |
|
|
|
|
|
(In thousands) |
|
|
|
|
|
Service cost |
|
$ |
430 |
|
|
$ |
380 |
|
|
$ |
859 |
|
|
$ |
793 |
|
Interest cost |
|
|
989 |
|
|
|
934 |
|
|
|
1,979 |
|
|
|
1,973 |
|
Expected return on plan assets |
|
|
(1,184 |
) |
|
|
(1,163 |
) |
|
|
(2,367 |
) |
|
|
(2,389 |
) |
Amortization of unrecognized transition asset |
|
|
(12 |
) |
|
|
(12 |
) |
|
|
(24 |
) |
|
|
(24 |
) |
Amortization of prior service cost |
|
|
491 |
|
|
|
491 |
|
|
|
981 |
|
|
|
981 |
|
Amortization of net loss |
|
|
235 |
|
|
|
143 |
|
|
|
470 |
|
|
|
354 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net pension cost |
|
$ |
949 |
|
|
$ |
773 |
|
|
$ |
1,898 |
|
|
$ |
1,688 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 7 — Segment Information
The Company provides a range of health care services. The Company has two reportable operating
segments, long-term care, which includes the operation of skilled nursing and assisted living
facilities, and hospice and home health. The “Other” category includes the non-reportable segments
and corporate items. The revenues in the “Other” category are derived from rehabilitation and
other services. Asset information, including capital expenditures, is not reported by segment by
the Company. Operating performance represents revenues less operating expenses and does not
include general and administrative expenses, depreciation and amortization, other income and
expense items, and income taxes.
14
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Long-Term |
|
|
Hospice and |
|
|
|
|
|
|
|
| |
|
Care |
|
|
Home Health |
|
|
Other |
|
|
Total |
|
| |
|
|
|
|
|
(In thousands) |
|
|
|
|
|
Three months ended June 30, 2005 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues from external customers |
|
$ |
704,021 |
|
|
$ |
97,482 |
|
|
$ |
32,256 |
|
|
$ |
833,759 |
|
Intercompany revenues |
|
|
|
|
|
|
|
|
|
|
25,741 |
|
|
|
25,741 |
|
Depreciation and amortization |
|
|
32,451 |
|
|
|
797 |
|
|
|
2,381 |
|
|
|
35,629 |
|
Operating margin |
|
|
121,680 |
|
|
|
14,816 |
|
|
|
3,042 |
|
|
|
139,538 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended June 30, 2004 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues from external customers |
|
$ |
674,836 |
|
|
$ |
96,257 |
|
|
$ |
28,042 |
|
|
$ |
799,135 |
|
Intercompany revenues |
|
|
|
|
|
|
|
|
|
|
16,816 |
|
|
|
16,816 |
|
Depreciation and amortization |
|
|
30,629 |
|
|
|
713 |
|
|
|
934 |
|
|
|
32,276 |
|
Operating margin |
|
|
116,875 |
|
|
|
19,232 |
|
|
|
3,271 |
|
|
|
139,378 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six months ended June 30, 2005 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues from external customers |
|
$ |
1,453,489 |
|
|
$ |
192,813 |
|
|
$ |
66,659 |
|
|
$ |
1,712,961 |
|
Intercompany revenues |
|
|
|
|
|
|
|
|
|
|
45,390 |
|
|
|
45,390 |
|
Depreciation and amortization |
|
|
64,160 |
|
|
|
1,570 |
|
|
|
3,346 |
|
|
|
69,076 |
|
Operating margin |
|
|
251,193 |
|
|
|
27,267 |
|
|
|
6,130 |
|
|
|
284,590 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six months ended June 30, 2004 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues from external customers |
|
$ |
1,351,398 |
|
|
$ |
188,350 |
|
|
$ |
56,725 |
|
|
$ |
1,596,473 |
|
Intercompany revenues |
|
|
|
|
|
|
|
|
|
|
33,812 |
|
|
|
33,812 |
|
Depreciation and amortization |
|
|
60,668 |
|
|
|
1,484 |
|
|
|
1,871 |
|
|
|
64,023 |
|
Operating margin |
|
|
234,318 |
|
|
|
35,272 |
|
|
|
7,768 |
|
|
|
277,358 |
|
Note 8 — Subsequent Event
On August 1, 2005, the Company issued $400 million principal amount of 2.125% convertible senior
notes due in 2035 (the Notes) in a private placement. The Notes pay interest semiannually in
arrears at an annual rate of 2.125 percent until August 1, 2010 and at an annual rate of 1.875
percent thereafter. The Notes will mature on August 1, 2035. The Company intends to register the
Notes with the Securities and Exchange Commission. The Notes are guaranteed by substantially all
of the Company’s subsidiaries.
The Notes will be convertible into cash and, if applicable, shares of the Company’s common stock
based on an initial conversion rate, subject to adjustment, of 22.3474 shares per $1,000 principal
amount of Notes (which represents an initial conversion price of approximately $44.75 per share),
only under the following circumstances: (1) if the average of the last reported sales prices of the
Company’s common stock for the 20 trading days immediately prior to the conversion date is greater
than or equal to 120 percent of the conversion price per share of common stock on such conversion
date; (2) if the Company has called the Notes for redemption;
15
(3) upon the occurrence of specified
corporate transactions; or (4) if the credit ratings assigned to the Notes decline to certain
levels. In general, upon conversion of a note, a holder will receive cash equal to the lesser of
the principal amount of the note or the conversion value of the note and common stock of the
Company for any conversion value in excess of the principal amount.
The Company may redeem the Notes at its option on or after August 1, 2010 at a redemption price in
cash equal to 100 percent of the principal amount of the Notes to be redeemed. The holders of the
Notes may require the Company to purchase all or a portion of their Notes under certain
circumstances, in each case at a repurchase price in cash equal to 100 percent of the
principal amount of the repurchased Notes at any of five specified dates during the life of the
notes, with the first such date being August 1, 2010, or if certain fundamental changes occur.
In connection with the issuance of the Notes, the Company entered into convertible note hedge and
warrant option transactions with respect to its common stock. These transactions have no effect on
the terms of the Notes and are intended to reduce the potential dilution upon future conversion of
the Notes by effectively increasing the initial conversion price to $59.66 per share, representing
a 60 percent conversion premium.
The estimated net proceeds were approximately $391.0 million, after deducting fees and estimated
expenses. The Company used the net proceeds to purchase $93.0 million of its common stock
concurrent with this transaction and to pay the net cost of $53.8 million of the convertible note
hedge and warrant option transactions. The Company intends to use the remaining net proceeds to
redeem $100 million principal amount of the 7 1/2% Senior Notes issued by its wholly owned
subsidiary, MCA, in the third quarter of 2005 and for general corporate purchases, including
additional repurchases of common stock.
As of June 30, 2005, the Company had remaining authority to purchase $43.9 million of its common
stock. On July 22, 2005, the Company announced that its Board of Directors authorized management
to spend an additional $300 million to purchase common stock through December 31, 2006. The
Company purchased 3,079,500 shares from July 1 through August 5, 2005 for $115.4 million, including
the $93.0 million concurrent with the Note offering. At August 5, 2005, the Company had remaining
unused repurchase authority of $228.5 million.
Note 9 — Restatement of Previously Issued Financial Statements
To correct the items discussed in our Explanatory Note on page 2, the Company restated its
consolidated balance sheet at June 30, 2005, its consolidated statement of income for the three and
six months ended June 30, 2005 and its consolidated statement of cash flows for the six months
ended June 30, 2005. The accompanying notes to the consolidated financial statements have been
restated as necessary to reflect the adjustments.
16
The effects of the restatement on the consolidated balance sheet as of June 30, 2005 are summarized
as follows:
| |
|
|
|
|
|
|
|
|
| |
|
June 30, 2005 |
|
| |
|
Previously |
|
|
|
|
| |
|
Reported |
|
|
Restated |
|
| |
|
(In thousands) |
|
Current liabilities: |
|
|
|
|
|
|
|
|
Income tax payable |
|
$ |
31,952 |
|
|
$ |
31,826 |
|
Long-term liabilities: |
|
|
|
|
|
|
|
|
Deferred income taxes |
|
|
122,863 |
|
|
|
131,588 |
|
Shareholders’ Equity: |
|
|
|
|
|
|
|
|
Capital in excess of par value |
|
|
392,013 |
|
|
|
374,136 |
|
Retained earnings |
|
|
1,251,773 |
|
|
|
1,261,051 |
|
Total shareholders’ equity |
|
|
1,043,149 |
|
|
|
1,034,550 |
|
The consolidated statement of income for the six months ended June 30, 2005 was adjusted by a
decrease to general and administrative expenses by $17.9 million and an increase to income taxes by
$8.6 million. The effects of the restatement on the consolidated statement of income for the three
months and six months ended June 30, 2005 are as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Three months ended |
|
|
Six months ended |
|
| |
|
June 30, 2005 |
|
|
June 30, 2005 |
|
| |
|
Previously |
|
|
|
|
|
|
Previously |
|
|
|
|
| |
|
Reported |
|
|
Restated |
|
|
Reported |
|
|
Restated |
|
| |
|
(In thousands, except per share amounts) |
|
Expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative |
|
$ |
40,844 |
|
|
$ |
40,680 |
|
|
$ |
94,823 |
|
|
$ |
76,946 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before other income
(expenses) and income taxes |
|
|
63,065 |
|
|
|
63,229 |
|
|
|
120,691 |
|
|
|
138,568 |
|
Income before income taxes |
|
|
55,681 |
|
|
|
55,845 |
|
|
|
104,464 |
|
|
|
122,341 |
|
Income taxes |
|
|
17,738 |
|
|
|
17,766 |
|
|
|
35,300 |
|
|
|
43,899 |
|
Net income |
|
|
37,943 |
|
|
|
38,079 |
|
|
|
69,164 |
|
|
|
78,442 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
.44 |
|
|
$ |
.44 |
|
|
$ |
.80 |
|
|
$ |
.91 |
|
Diluted |
|
$ |
.43 |
|
|
$ |
.43 |
|
|
$ |
.79 |
|
|
$ |
.89 |
|
17
There was no change to the cash provided by operations as the adjustments were all non-cash
items. The effects of the restatement on the consolidated statement of cash flows for the six
months ended June 30, 2005 are summarized as follows:
| |
|
|
|
|
|
|
|
|
| |
|
Six months ended |
|
| |
|
June 30, 2005 |
|
| |
|
Previously |
|
|
|
|
| |
|
Reported |
|
|
Restated |
|
| |
|
(In thousands) |
|
Operating activities: |
|
|
|
|
|
|
|
|
Net income |
|
$ |
69,164 |
|
|
$ |
78,442 |
|
Restricted stock compensation |
|
|
20,185 |
|
|
|
2,308 |
|
Deferred income taxes |
|
|
(13,683 |
) |
|
|
(4,958 |
) |
Liabilities |
|
|
46,672 |
|
|
|
46,546 |
|
Total adjustments |
|
|
80,991 |
|
|
|
71,713 |
|
18
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Results of Operations — Overview
Federal Medicare Payment Legislation. On July 28, 2005, The Centers for Medicare & Medicaid
Services, or CMS, announced the final rule for nursing home payments for fiscal 2006, which
included refinements to the patient classification system and the elimination of the temporary
add-on payments for certain high-acuity patients. A market basket or inflationary increase of 3.1
percent is effective October 1, 2005 for our skilled nursing facilities and patient classification
refinements and elimination of add-on payments is effective January 1, 2006. As a result of the
final rule, we estimate that our average Medicare rates will increase approximately $10 per day on
October 1, 2005 and decrease approximately $17 to $20 per day on January 1, 2006.
Second Quarter 2005 Results Compared with First Quarter 2005. Our second quarter results were
lower than expected due to a decrease in occupancy without a corresponding decrease in costs. Our
occupancy levels decreased from 89 percent in the first quarter of 2005 to 88 percent in the second
quarter of 2005.
There were a number of unusual items in the second quarter of 2005, including higher-than-normal
stock-based compensation expense, a one-time correction to our lease expense and the write-off of
deferred finance fees, which were partially offset by a favorable tax rate. Our stock-based
compensation expense of $5.2 million ($3.3 million after tax or $.04 per share) in the second
quarter of 2005 was higher than our normal expense of one cent per share primarily due to a 9
percent increase in our stock price in the second quarter. During the second quarter, we completed
our assessment of over 150 leases and related amortization for leasehold improvements and recorded
a non-cash charge of $4.5 million ($2.8 million after tax or $.03 per share) that reflected the
correction through June 30, 2005. See Note 1 to the consolidated financial statements for
additional discussion. We replaced our existing revolving credit facility which resulted in the
write-off of deferred finance fees of $0.6 million or about $.01 per share. Ohio tax legislation
enacted in June 2005 to phase out the Ohio Franchise tax and phase in the Ohio Commercial Activity
tax reduced our tax expense by $2.9 million or $.03 per share.
Critical Accounting Policies
General and Professional Liability. Our general and professional reserves include amounts for
patient care-related claims and incurred but not reported claims. Our independent actuary provided
a range of the indicated loss reserve levels during the second quarter of 2005 for all policy
periods through May 31, 2005. The amount of our reserves is determined based on an estimation
process that uses information obtained from both company-specific and industry data. The
estimation process requires us to continuously monitor and evaluate the life cycle of the claims.
19
Using data obtained from this monitoring and our assumptions about emerging trends, we along with
our independent actuary develop information about the size of ultimate claims based on our
historical experience and other available industry information. The most significant assumptions
used in the estimation process include determining the trend in costs, the expected cost of claims
incurred but not reported and the expected costs to settle unpaid claims. Our assumptions take
into consideration our internal efforts to contain our costs by reviewing our risk management
programs, our operational and clinical initiatives, and other industry changes affecting the
long-term care market. In comparing the first half of 2005 with the first half of 2004, the number
of new claims and our average settlement cost per claim are similar. Based on our own semi-annual
review of trends and confirmed with our independent actuary’s analysis, we maintained our accrual
for current claims at $5.1 million per month. Although we believe our liability reserves are
adequate and appropriate, we can give no assurance that these reserves will not require material
adjustment in future periods.
Workers’ Compensation Liability. Our workers’ compensation reserves are determined based on
an estimation process that uses company-specific data. We continuously monitor the claims and
develop information about the ultimate cost of the claims based on our historical experience.
During 2003 and continuing into 2004, we expanded and increased attention to our safety, training
and claims management programs. The number of new claims in the first half of 2005 decreased in
comparison to the prior year period. As a result of these factors, our workers’ compensation
expense decreased $2.1 million for the second quarter of 2005 and $1.4 million for the first half
of 2005 in comparison to prior year periods. Although we believe our liability reserves are
adequate and appropriate, we can give no assurance that these reserves will not require material
adjustment in future periods.
Results of Operations –
Quarter and Year-To-Date June 30, 2005 Compared with June 30, 2004
Revenues. Our revenues increased $34.6 million, or 4 percent, from the second quarter of 2004
to 2005. Revenues from our long-term care segment (skilled nursing and assisted living facilities)
increased $29.2 million, or 4 percent, due to increases in rates/patient mix of $57.3 million and
occupancy of $3.0 million that were partially offset by a decrease in capacity of $31.1 million.
Our revenues from the hospice and home health segment increased $1.2 million, or 1 percent,
primarily from an increase in the number of patients utilizing our hospice services.
Our revenues in the first half of 2005 increased $116.5 million, or 7 percent, compared with the
first half of 2004. The increase included revenues of $63.2 million in the first quarter of 2005
associated with provider assessments. Revenues from our long-term care segment, excluding revenues
in the first quarter of 2005 associated with provider assessments, increased $38.9 million, or 3
percent, due to increases in rates/patient mix of $106.5 million and occupancy of $11.9 million
that were partially offset by a decrease in capacity of $79.5 million. Our revenues from the
20
hospice and home health care segment increased $4.5 million, or 2 percent, primarily from an
increase in the number of patients utilizing our hospice services.
Our average rates per day for the long-term care segment were as follows:
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Second Quarter |
|
|
|
|
|
|
First Half |
|
|
|
|
| |
|
2005 |
|
|
2004 |
|
|
Increase |
|
|
2005 |
|
|
2004 |
|
|
Increase |
|
Medicare |
|
$ |
355.26 |
|
|
$ |
335.64 |
|
|
|
6 |
% |
|
$ |
353.87 |
|
|
$ |
334.48 |
|
|
|
6 |
% |
Medicaid |
|
$ |
146.97 |
|
|
$ |
135.58 |
|
|
|
8 |
% |
|
$ |
146.53 |
|
|
$ |
134.38 |
|
|
|
9 |
% |
Private and other (skilled only) |
|
$ |
213.17 |
|
|
$ |
200.94 |
|
|
|
6 |
% |
|
$ |
212.38 |
|
|
$ |
198.99 |
|
|
|
7 |
% |
Our Medicare rates increased as a result of an inflation update of 2.8 percent effective October 1,
2004, as well as higher acuity patients. Our average Medicaid rates excluded prior period
revenues. However, when giving effect for the increase in accompanying state provider assessments,
the net Medicaid increase was approximately 2 percent for the first half of 2005 compared with the
first half of 2004.
Our occupancy levels, including or excluding start-up facilities, were 88 percent for the second
quarters and first half of 2004 and 2005. Excluding start-up facilities, our occupancy levels for
skilled nursing facilities were 88 percent for the second quarters of 2004 and 2005, and 89 percent
for the first half of 2004 and 2005. The quality mix of revenues from Medicare, private pay and
insured patients that related to our long-term care segment and rehabilitation operations increased
from 69 percent for the second quarter and first half of 2004 to 70 percent for the second quarter
of 2005 and 71 percent for first half of 2005.
Our bed capacity declined between the second quarters and first half of 2004 and 2005 primarily
because of the divestiture of 21 facilities in 2004.
Operating Expenses — Quarter. Our operating expenses in the second quarter of 2005 increased
$34.5 million, or 5 percent, compared with the second quarter of 2004. The increase included a
$2.4 million one-time adjustment to correct the accounting for our leases as described further in
Note 1 to our consolidated financial statements.
Operating expenses from our long-term care segment increased $24.4 million, or 4 percent, between
the second quarters of 2004 and 2005. The largest portion of the operating expense increase
related to ancillary costs, excluding internal labor, of $17.7 million and provider assessments of
$6.5 million. Ancillary costs, which include various types of therapies, medical supplies and
prescription drugs, increased as a result of our more medically complex patients. Partially
offsetting these increases were decreases in labor costs of $8.4 million and general and
professional liability expense of $2.0 million. Our labor costs declined due to the divestiture of
facilities in 2004. Our average wage rates increased 4 percent compared with the second quarter of
2004.
21
Our second quarter results of our hospice and home health segment continue to be affected by our
reorganization in the first quarter of 2005 when we appointed a new general manager and new
divisional and regional management. There has been improvement in operating margins between the
first and second quarter of 2005. Margins declined in the second quarter of 2005 compared to the
second quarter of 2004 because our operating expenses increased $5.6 million, or 7 percent,
primarily due to a $3.2 million increase in labor costs.
Operating Expenses – First Half. Our operating expenses in the first half of 2005 increased
$109.3 million, or 8 percent, compared with the first half of 2004. The increase included provider
assessments for several states of $57.5 million in the first quarter of 2005.
Excluding provider assessments in the first quarter of 2005, operating expenses from our long-term
care segment increased $27.7 million, or 2 percent, between the first half of 2004 and 2005. The
largest portion of the operating expense increase related to ancillary costs, excluding internal
labor, of $30.7 million and provider assessments of $6.5 million. Partially offsetting these
increases were decreases in labor costs of $18.2 million and general and professional liability
expense of $4.2 million. Our labor costs declined due to the divestiture of facilities in 2004.
Our operating expenses from our hospice and home health segment increased $12.5 million or 8
percent, primarily due to a $7.4 million increase in labor costs.
General and Administrative Expenses. Our general and administrative expenses increased $7.6
million and $9.0 million from the second quarters and first half of 2004 to 2005, respectively,
primarily due to the higher costs associated with our stock appreciation rights, restricted stock
and deferred compensation plans. These costs increased $5.1 million for both periods primarily as
a result of a 9 percent increase in our stock price in the second quarter.
Depreciation and Amortization. Our depreciation expense increased $3.2 million and $4.8
million from the second quarters and first half of 2004 to 2005, respectively. We recorded a $1.5
million adjustment to correct the amortization of leasehold improvements. See Note 1 to the
consolidated financial statements for further discussion. Excluding the leasehold improvement
adjustment and the impact of divested facilities in 2005 and 2004, our depreciation increased $2.3
million and $4.7 million from the second quarters and first half of 2004 and 2005, respectively.
Interest Expense. Interest expense decreased $1.0 million and $1.6 million from the second
quarters and first half of 2004 to 2005, respectively, because of lower debt levels partially
offset by higher interest rates and additional finance fees. In the second quarter of 2005, we
wrote off $0.6 million in deferred finance fees related to the termination of our revolving credit
facility. See Note 2 to the consolidated financial statements for further discussion.
22
Gain on Sale of Assets. Our gain on sale of assets in 2004 primarily resulted from the sale
of four skilled nursing centers in January 2004 and the sale of certain other assets.
Equity in Earnings of Affiliated Companies. Our equity earnings decreased in the second
quarter and first half of 2005 compared with the prior year periods primarily because of the
decline in earnings from our ownership interests in two hospitals.
Income Taxes. Our effective tax rate was 31.8 percent in the second quarter of 2005 compared
with 37.5 percent in the second quarter of 2004. Our effective tax rate in the second quarter of
2005 is lower than our expected tax rate of approximately 37.5 percent, as revised in our first
quarter Form 10-Q/A, primarily because of a decrease in our deferred tax rate. Ohio tax
legislation enacted in June 2005 to phase out the Ohio Franchise tax and phase in the Ohio
Commercial Activity tax reduced our tax expense by $2.9 million or $.03 per share.
Liquidity and Capital Resources
Cash Flows. During the first half of 2005, we satisfied our cash requirements primarily with
cash generated from operating activities. We used the cash principally for capital expenditures,
the purchase of our common stock and the payment of dividends. Cash flows from operating
activities were $150.2 million for the first half of 2005, a decrease of $43.3 million from the
first half of 2004. Our operating cash flows in 2005 decreased primarily because of Medicare
settlement payments of $31.9 million in the first quarter of 2005 related to the former Manor Care
home office cost reports for 1997 through 1999, which are under appeal and recorded as receivables.
Investing Activities. Our expenditures for property and equipment of $64.8 million in the
first half of 2005 included $20.6 million to construct new facilities and expand existing
facilities.
Debt Agreements. On May 27, 2005, we terminated our three-year $200 million revolving credit
facility and entered into a five-year $300 million unsecured revolving credit facility, with an
uncommitted option available to increase the facility by up to an additional $100 million
(accordion feature). The new unsecured revolving credit facility includes a $125 million sublimit
for letters of credit. As of June 30, 2005, there were no loans outstanding under the new facility
and after consideration of usage for letters of credit, there was $251.4 million available for
future borrowing plus the accordion feature.
On August 1, 2005, we issued $400 million of 2.125% convertible senior notes due 2035. The
estimated net proceeds were approximately $391.0 million, after deducting fees and estimated
expenses. We used the net proceeds to purchase $93.0 million of our common stock concurrent with
this transaction and to pay the net cost of $53.8 million of the convertible note hedge and
23
warrant option transactions. See Note 8 to the consolidated financial statements for further
discussion. We intend to use the remaining proceeds to redeem MCA’s $100 million principal amount
of 7 1/2% Senior Notes in the third quarter of 2005 and for general corporate purposes, including
additional repurchases of common stock.
The holders of our $100 million Convertible Senior Notes due 2023 had the right to require us to
purchase the Notes on April 15, 2005 but only $15,000 was redeemed. The next put date is April 15,
2008. The holders of these notes have the ability to convert the notes when our average of the
last reported stock price for 20 trading days immediately prior to conversion is greater than or
equal to $37.34, which it was as of June 30, 2005. The holders of $6.6 million principal amount of
the Old Notes can convert their notes into shares of our common stock. The holders of $93.4
million principal amount of the New Notes can convert their notes into cash for the principal value
and into shares of our common stock for the excess value, if any.
Stock Purchase. In July 2004, our Board of Directors authorized us to spend up to $100
million to purchase our common stock through December 31, 2005. On July 22, 2005, we announced
that our Board of Directors authorized an additional $300 million through December 31, 2006. We
purchased 384,500 shares in the first half of 2005 for $13.4 million and an additional 3,079,500
shares from July 1, 2005 through August 5, 2005 for $115.4 million. As of August 5, 2005, we had
$228.5 million remaining authority to repurchase our shares. We may use the shares for internal
stock option and 401(k) match programs and for other uses, such as possible acquisitions.
Cash Dividends. On July 22, 2005, we announced that the Company will pay a quarterly cash
dividend of 15 cents per share to shareholders of record on August 8, 2005. This dividend will
approximate $12.5 million and is payable August 22, 2005. We intend to declare and pay regular
quarterly cash dividends; however, there can be no assurance that any dividends will be declared,
paid or increased in the future.
We believe that our cash flow from operations will be sufficient to cover operating needs, future
capital expenditure requirements, scheduled debt payments of miscellaneous small borrowing
arrangements and capitalized leases, cash dividends and some share repurchase. Because of our
significant annual cash flow, we believe that we will be able to refinance the major pieces of our
debt as they mature. It is likely that we will pursue growth from acquisitions, partnerships and
other ventures that we would fund from excess cash from operations, credit available under our
revolving credit facility and other financing arrangements that are normally available in the
marketplace.
24
Cautionary Statement Concerning Forward-Looking Statements
This report may include forward-looking statements. We have based these forward-looking statements
on our current expectations and projections about future events. We identify forward-looking
statements in this report by using words or phrases such as “anticipate,” “believe,” “estimate,”
“expect,” “intend,” “may be,” “objective,” “plan,” “predict,” “project,” and “will be” and similar
words or phrases, or the negative thereof.
These forward-looking statements are subject to numerous assumptions, risks and uncertainties.
Factors which may cause our actual results, performance or achievements to be materially different
from any future results, performance or achievements expressed or implied by us in those statements
include, among others: changes in the health care industry because of political and economic
influences; changes in Medicare, Medicaid and certain private payors’ reimbursement levels or
coverage requirements; existing government regulations, including applicable health care, tax and
health and safety regulations, and changes in, or the failure to comply with, governmental
regulations or the interpretations thereof; legislative proposals for health care reform; general
economic and business conditions; conditions in financial markets; competition; our ability to
maintain or increase our revenues and control our operating costs; the ability to attract and
retain qualified personnel; changes in current trends in the cost and volume of patient
care-related claims and workers’ compensation claims and in insurance costs related to such claims;
and other litigation.
Although we believe the expectations reflected in our forward-looking statements are based upon
reasonable assumptions, we can give no assurance that we will attain these expectations or that any
deviations will not be material. Except as otherwise required by the federal securities laws, we
disclaim any obligations or undertaking to publicly release any updates or revisions to any
forward-looking statement contained in this report to reflect any change in our expectations with
regard thereto or any change in events, conditions or circumstances on which any such statement is
based.
25
Item 4. Controls and Procedures
An evaluation was performed under the supervision and with the participation of our management,
including the chief executive officer, or CEO, and chief financial officer, or CFO, of the
effectiveness of the design and operation of our disclosure procedures. Based on that evaluation,
our management, including the CEO and CFO, concluded that our disclosure controls and procedures
were effective as of June 30, 2005. There were no significant changes in our internal control over
financial reporting in the second quarter of 2005 that materially affected, or are reasonably
likely to materially affect, our internal control over financial reporting.
Part II. Other Information
Item 6. Exhibits.
| |
|
|
| S-K Item |
|
|
| 601 No. |
|
|
31.1
|
|
Chief Executive Officer Certification |
|
|
|
31.2
|
|
Chief Financial Officer Certification |
|
|
|
32.1
|
|
Chief Executive Officer Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 |
|
|
|
32.2
|
|
Chief Financial Officer Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 |
26
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned thereunto duly authorized.
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Manor Care, Inc. |
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(Registrant) |
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Date September 27, 2005
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By
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/s/ Geoffrey G. Meyers |
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Geoffrey G. Meyers, Executive Vice President |
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and Chief Financial Officer |
27
Exhibit Index
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| Exhibit |
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31.1
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Chief Executive Officer Certification |
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31.2
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Chief Financial Officer Certification |
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32.1
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Chief Executive Officer Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 |
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32.2
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Chief Financial Officer Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 |
28